One of the biggest factors that propelled U.S. Treasury yields to 16-year highs this week is hard to quantify, but the Federal Reserve Bank of New York gives it a shot.
The regional Fed bank estimates that the so-called term premium on 10-year Treasurys
BX:TMUBMUSD10Y
— or additional compensation that investors demand to hold that security because of uncertainties — inched back above zero last week for the first time in almost two years. Still, it remains below the general levels which prevailed from 2009-2014, suggesting that the term premium has room to run higher and that getting the 10-year yield to 5% is an “easy bar to clear,” said Will Compernolle, a macro strategist at FHN Financial in New York.
Read: Rising Treasury yields are upsetting financial markets. Here’s why.
Source: Federal Reserve Bank of New York
“You can’t really observe the term premium,” Compernolle said via phone on Wednesday. “But from 2017-2021, the term premium was negative because there was so much certainty about where inflation and the fed funds rate would be. Now, there’s mystery over how long the Fed will pause once it reaches its terminal rate and where inflation will stabilize.”
Long-dated Treasury yields have been testing more multiyear highs ever since the Federal Reserve’s Sept. 20 policy announcement, in which officials reaffirmed their higher-for-longer mantra on interest rates. Upside risks to inflation from oil prices, along with increased Treasury issuance to address the U.S. fiscal deficit, are also factors contributing to the recent selloffs in the roughly $25 trillion U.S. government-debt market, which have burned existing holders.
Ten- and 30-year yields
BX:TMUBMUSD30Y
ended Tuesday’s session at 4.801% and 4.936%, respectively, the highest closing levels since August-September of 2007.
Wednesday’s trading session brought a breather from this week’s selloff, with the 10- and 30-year yields falling to as low as 4.69% and 4.85% respectively after data showed U.S. private-sector employment rose by just 89,000 in September. Such wide swings in reaction to the ADP report, which isn’t a reliable predictor of the official jobs report being released on Friday, suggest “trading that lacks confidence and is aimless, looking for a new anchor,” said FHN’s Compernolle.
As of late-morning trading in New York, yields on everything but the 1-, 2-, and 6-month T-bills were lower, led by a decline in the 1-year yield
BX:TMUBMUSD01Y
that was accompanied by rising expectations of no action by the Fed in November and December. Meanwhile, major U.S. stock indexes
DJIA
COMP
turned higher.
“An object that’s in motion stays in motion and, from what we can tell, no one wants to get in ahead of this recent selloff,” despite the emergence of buyers on Wednesday, Compernolle said. Greater dysfunction in Congress, following the ouster of House Speaker Kevin McCarthy, tends to push yields higher because “if you can’t count on the government to stay open or pay its debts, you require additional concession to keep buying those securities.”
In the current environment, the likelihood of a higher term premium could still be consistent with a scenario in which further fear grips investors and restores the allure of Treasurys as a safe haven. “Term premium is a lack of certainty over what’s going to happen, and that’s not inconsistent with a scenario in which Treasurys become attractive again,” the FHN strategist said.
This post was originally published on Market Watch
